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The end of business as usual

To remain competitive, companies must face up to the risks and opportunities created by new platforms and circular and sharing models.

It would hardly be surprising if today’s CEOs suffer from insomnia. Running a company has always been tough: there are shareholders to satisfy; competitors to worry about; and regulators to contend with. But in recent years, an additional anxiety has disturbed corporate leaders’ slumbers. Entrants with disruptive operating models driven by technology and new ways of thinking are emerging: a company’s advantages can now seemingly be overturned at a stroke.

Should platforms be feared?

Chief among the threats facing established companies is the platform model.  “In a traditional pipeline model, products are produced and distributed but platforms have a triangular model where different types of customers interact,” explains Stefan van Woelderen, principal economist at ING and co-author of the report 'Platforms: Bigger, Faster, Stronger'. It is this interaction, ratherthan the sale of a good, that creates value for a platform company.

Lei Pan, senior economist at ING and co-author of Platforms: Bigger, Faster, Stronger, says that there’s nothing new about platforms: department stores function in a similar way, with individual boutiques under a single roof. What has changed in today’s platform model is the use of technology and data, which gives platforms their advantage over pipeline companies. “In the case of Amazon, they enable recommendations and allow users to provide ratings,” he explains.

Most importantly, the use of technology enables platform companies to grow quickly because they need few assets: Uber expanded to 67 countries in seven years compared to the 50 years it took IBM to reach the same size. Rapid expansion is also aided by platform companies’ ability to leverage others’ creativity: users are attracted to Apple products partly because of the thousands of apps available (which Apple doesn’t create but which it does gain revenue from). While platforms have to sacrifice control to achieve these benefits, Apple’s experience shows the loss need not be total.

Apple and Amazon hog the headlines but platforms aren’t necessarily all consumer brands with sky-high valuations. David Evans and Richard Schmalensee, co-authors of Matchmakers: The New Economics of Multisided Platforms, highlight the importance of standard setting organisations, which help members reach agreements over a standard; mobile carriers, handset makers, chip providers and others agreed on a common standard for 4G broadband, for example. “A recent study found that these platforms were responsible for a significant amount of economic growth in the last several decades,” they note. There are also plenty of small-scale platforms attempting to disrupt established industries, such as SuperCarers, a UK company which helps families find elderly care.

Despite the hype around platforms, many traditional pipeline companies (or parts of them) will remain viable. “Platform companies can only thrive if there is a friction that can be removed or a need that can be met: they can’t thrive on thin air,” explains Van Woelderen. “If services are inefficient – for example booking a restaurant table – a platform can eliminate that inefficiency.” Likewise, where pipeline models make sense or the barriers to entry are high, such as in mining, there are less likely to be challenges from platform companies.

Nevertheless, while the platform revolution is still in its early stages, it is a game-changer and cannot be ignored, says Van Woelderen. “Technology continues to develop rapidly with methods of data gathering, and leveraging that data, accelerating: data has become part of everyday life and companies are eager to use it,” he says. “Transformation is already underway in many industries while consumer behaviour is also changing: the platform world will require a different mindset by companies in most sectors.”

Shifting from sales to relationships

Platform companies’ explosive growth (and focus on consumers in many cases) means they are seen as the greatest threat to established companies. But other nascent business models could have equally profound consequences in the long term.

One of these is the provision of services rather than products: this trend is well underway, with services representing an increasing component of industrial earnings, according to the ING report 'From assets to access'.

Of course, many industrial companies already provide maintenance services: this new model differs by guaranteeing the performance of a capital good for a fixed fee. “The customer is thereby assured of use and performance, without ownership,” it notes. “This guarantee of a care-free solution and flexibility is valued by many customers and reinforces the relationship between manufacturer and customer.”

It is this relationship that helps a company moving from a traditional product sales model to a service model to create additional value. Not only does the provision of services ensure ongoing fee revenue (which tends to be valued highly by investors given its recurrent nature) but by deepening customer relationships, more value can be captured by the company as other companies (those that have traditionally provided repairs, for example) are edged out of the market.

Moving from product sales a service model also serves as a stepping stone to developing a circular economy model. “In theory, ‘product as a service’ is the perfect circular economy model: by incentivising the producer it envisages the total re-use, re-deployment and refurbishment of a product and the efficient re-cycling of any components that are no longer viable,” explains Gerald Naber, vice president of sustainable finance at ING.

Demand for circular economy products among consumers and companies is currently limited and “is not (yet) expressed in a better procurement margin”, according to ING’s report. However, demand is expected to increase in the coming years, because of regulatory imperatives and – perhaps more importantly – increasing environmental awareness among consumers. A Nielsen survey showed that almost three-quarters of millennials are willing to pay extra for sustainable offerings: savvy companies should be looking for ways to monetise this enthusiasm.

Moving to a service (or even a circular) model is not a decision to be taken lightly: it’s expensive and time-consuming, requiring new technology to improve maintenance and capital goods usage, and investment in sales staff. Moreover, service models (including the circular economy) require an existing customer relationship so are less likely than platform models to result in competitive threats to incumbent companies from new entrants.

Why then should established companies consider investing to develop a service model, when the threat of competition from new entrants is limited? The simple answer is because their competitors might. There is a first mover advantage because adoption of a service model by one company in a sector has the potential to undermine the position of other market players. As importantly, the long-term rationale for adopting a service model is that it should offer ways to create more value and meet the evolving needs of businesses and consumers.

Will the sharing economy undermine existing business models?

Like the service model, the sharing model decouples use from ownership. However, it offers a more radical solution: surplus assets – like a bicycle or household appliances – owned by one party are used by another, creating value for the owner, and eliminating the need to make a purchase. Consumers are motivated to participate in the sharing economy by the chance to save money and benefit the environment, according to a 2015 survey conducted for ING.

For companies, the impact of the sharing economy depends on what definition one applies. Koen Frenken, professor of Innovation Studies at the Copernicus Institute of Sustainable Development at Utrecht University, defines it as consumers granting each other temporary access to their under-utilised physical assets. For companies such behaviour could be problematic: people who share cars, for example, will necessarily buy fewer new vehicles while if vacationers rent out their apartments through Airbnb, there is likely to be less demand for hotel rooms.

However, this strict definition of the sharing economy is by no means universal: some definitions include platform-based rental models, for example. Moreover, there is considerable blurring of the boundaries by companies active in this area: BlaBlaCar, for instance, is primarily focused on carpooling but has recently introduced car-as-a-service deals and while Uber is widely seen as a pseudo-taxi company it also offers car sharing in some markets.

If one accepts this broader definition of sharing economy models, then the business strategy can be seen to offer both risks and rewards for companies. Indeed, the sharing economy is already big business, with five key sectors of the European sharing economy generating platform revenues of nearly €4 billion and facilitating €28 billion of transactions in 2015; by 2025, €80 billion of revenues and €570 billion of transactions are expected.

For example, Daimler, maker of Mercedes-Benz cars, has responded to the potential threat of car sharing by embracing it. Its car2go subsidiary is the largest, fastest-growing car sharing company in the world with more than 2.7 million registered members using a smartphone app to rent a fleet of nearly 13,000 vehicles in 26 locations in North America, Europe and Asia. By providing Smart Fortwo and Mercedes-Benz vehicles to car2go, Daimler has created a useful hedge against the possibility that car sales will fall in the future.

Why trust matters

The new challenges facing companies as a result of emerging business models and new technology vary widely: even companies within the same sector will face specific issues as a result of their organisational footprint or existing business strategy.

Yet there are also similarities in these challenges. Platform, circular and sharing models all put greater emphasis on relationships – and the trust they create – rather than assets, for instance. Established businesses necessarily have existing customer relationships: they would do well to nurture them to accelerate their business evolution.

To be sure, the emergence of new models raises the stakes for existing companies: they can’t simply carry on working in the way they have done in the past. As ING’s Pan notes, while platform models may deliver benefits for consumers, pipeline companies “run a risk of being marginalised or even, as we saw with the demise of Blockbuster, could simply disappear”. Consequently, business must simultaneously become more introspective – examining their existing processes, models and relationships – and more outward looking to ensure they understand the threats they face. Eminent physicist, Stephen Hawking says that intelligence is the ability to adapt to change. In the future, it is intelligent companies that will survive – and prosper.

 

Sources

  • https://www.thecge.net/wp-content/uploads/2016/01/PDF-WEB-Platform-Survey_01_12.pdf
  • https://hbr.org/2016/03/some-of-the-most-successful-platforms-are-ones-youve-never-heard-of
  • https://www.edie.net/blog/Why-fitness-as-a-service-could-determine-the-future-of-the-circular-economy/6098195ane
  • www.pwc.co.uk/issues/megatrends/collisions/sharingeconomy/future-of-the-sharing-economy-in-europe-2016.html

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The View is the online magazine of ING Wholesale Banking